We have to be very clear in our understanding of current markets and our expectations going forward. Currently we see the following:
- Inflation rates are at record low levels worldwide. In South Africa we are at 3,1%
- GDP growth world-wide has been decimated by Covid-19, with only China seeing a positive growth for 2020.
- Because of the two points above, we are seeing governments all over the world holding an unprecedented amount of debt on their balance sheets.
- We are also seeing interest rates world-wide at record low levels, even negative.
The investor born out of the conditions described above, is one that can borrow money at 0%, cannot hold money in the bank because there is no interest to be earned and subsequently is investing everything in shares. This has resulted in shares becoming expensive, especially in the technology companies we all know. There are also some shares or asset classes that are becoming ridiculously expensive like Bitcoin, Tesla, Airbnb, Doordash, etc. We have to understand that as long as world growth remains low, resulting in inflation remaining low, interest rates will also remain low and this tsunami of liquidity will support the elevated share prices. But, the day will inevitably come when governments, followed by banks and eventually the people who borrowed money at very low interest rates, will have to start paying back their debt.
The problems will start when a government cannot pay back its debt. This is called a debt default and we have seen countries like Argentina and Venezuela go through this debacle. When this happens, that country’s currency falls off a cliff and it can take a long time to recover. Fortunately, a lot of South Africa’s debt is in rands, not in dollars, so our depreciating currency does not have a big impact on our interest and capital repayments. We do, however, see a potential problem developing due to an escalating debt-to-GDP percentage. What this means, is that currently our national debt is around 64% of the size of our economy. This is expected to grow to around 90%. So out of every tax rand our government currently collects, it has to pay 15% just in interest on the money it borrowed. If the debt goes to 90%, this interest charge will increase to 24%.
The best way out of this developing problem is to either stop spending, or to start growing the economy. If South Africa can grow our economy sustainably at 3%, we will be okay.
To summarize the above:
- Over the short term, we will not see inflation and interest rates will stay low, which will support the performance of shares.
- South African shares offer value but due to the uncertainty of future earnings, this asset class remains high risk.
- Older-generation dinosaur companies will become irrelevant, we need to focus on new-generation companies for future growth.
- Emerging markets will find it very difficult to repay the debt they have had to incur for Covid-19, only China will be okay.
- Activist investors together with sensitive governments will replace polluting companies with green ones over time.
- The rand should strengthen further but irrational policies from government keep the risk very high.
